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THE ANSWER DESK . . . ARCHIVES

Volume 71: To submit a question to MFI's panel of experts, please write to us.

This week's panel:

Sidney Blum Sidney A. Blum, CFP, CPA/PFS, ChFC, is president of Successful Financial Solutions, Inc., a fee-only financial planning and registered advisory investment firm based in suburban Chicago. Sid specializes in comprehensive financial planning with an emphasis on income and estate taxes, retirement planning and investment planning. Sid has appeared on national and regional television and is frequently quoted in many major publications on financial planning and investment topics. He has been included the last three years in Worth magazine's, "The Best Financial Advisors". For more information, visit Sid's website or call (800) 417-1141.

Richard Chiozzi Richard E. Chiozzi is a founding principal of Successful Financial Solutions, Inc., a fee-only financial planning and registered advisory investment firm based in suburban Chicago. Richard is a Certified Financial Planner (CFP), and a Registered Securities Principal. He has been in the financial service industry since 1981 and has lectured at NAPFA and ICFP national and regional conferences. Richard is a frequent author on financial planning issues in leading financial publications and also hosts a one-on-one cable television talk show in suburban Chicago. Richard can be reached at his website or call (800) 417-1141.

Questions and Responses

• Is gift giving a good tax-free strategy?
• Can a tax-deferred annuity be rolled over into a mutual fund IRA?
• Why shouldn't one hold a variable annuity in an IRA account?
• Should I be investing more aggressively?
• Are mutual funds or individual stocks the best bet for a college student?

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Is gift giving a good tax-free strategy?

from Jennifer

Q: The other morning on the Today show a young woman who provides financial information mentioned the possibility of gift giving as a tax-free strategy; but, of course, given only limited time for her suggestions, she did not give any specifics.

We are seeking legitimate ways of saving on our huge tax bite for which it seems that we have very few alternatives. Could my husband give me a gift of several thousand dollars for which we could in turn claim as a tax free gift while avoiding any potential pitfalls? As this will be our highest income year ever, we really could use some workable suggestions.

A: (Sid) Gift giving is a strategy that effects both income taxation and estate taxation. These are two separate planning issues. There is no income tax deduction for gifts to individuals, only to qualified charitable organizations.

Gifts to individuals, other than a spouse, may shift future income taxes, but the annual gifting limitation is $10,000 per person, per year. Gifts that exceed $10,000 to any individual per year, other than a spouse, will be applied against your lifetime annual exclusion, which is currently $650,000 for 1999.

Can a tax-deferred annuity be rolled over into a mutual fund-based IRA?

from Brian

Q: Can a tax-deferred annuity be rolled over into a mutual fund based IRA? The reasoning behind this is that the investor does not like the hefty expenses of the annuity and has concerns as to the credit worthiness of the issuing company. The investor is age 60 and there are no longer any surrender charges. He would like to do the rollover without triggering a taxable event.

A: An annuity product, unless it is already in an IRA, can not be rolled into an IRA. There are tax-free rollovers allowed from one annuity to another. (Tax code Section 1035). There are also annuities currently that have very low expenses as compared to others (i.e. Charles Schwab, Vanguard and T Rowe Price to name a few). This may be a preferable for your situation.

Why shouldn't one hold a variable annuity in an IRA account?

from Doug

Q: You recently said you would not recommend holding a variable annuity in an IRA account. Why?

A: (Sid) I don’t like putting tax deferred investments (i.e. annuities) in an IRA because IRA’s are a tax deferred investment already.

Most annuities include insurance and related fees and have limited investment options. (i.e., usually a selection of approximately 35 mutual funds; however, some may have a few more choices).

There are over 10,000 mutual funds listed on Morningstar and more are added daily, plus individual securities such as stocks, bonds and REITs are all available in an IRA account. Unless there is some overwhelming reason to insure a minimum stream of income at some future date I see no good reason for using a variable annuity especially inside an IRA.

Should I be investing more aggressively?

from Paul

Q: I am a 30 year-old school teacher who contributes 17% of my annual salary to a 403b plan with Fidelity Investments, depositing evenly among these funds:  Growth and Income, Dividend Growth, Contra, Mid-Cap Stock, Low-Priced Stock and Select Financial Services.  I also contribute $2,000 per year to a Roth IRA, split evenly between Vanguard Specialized Health Care and White Oak Growth Fund.

I have 30 years to invest before retirement and have a high risk tolerance.  Considering these facts, do you feel that I should be investing more aggressively?  Also, should I add an international flavor to my Fidelity plan?

A: (Richard)   Risk is a very personal thing for many people. Some would define high risk as having 100% in stocks or stock mutual funds. Others may consider 70% equities and 30% bonds as high risk.

If in fact your risk tolerance is high, meaning you slept fine last July and August and continued to buy equities or equity funds, then you many want to fine tune your portfolio with some international and small cap funds and lighten up on the growth and income and dividend growth type funds and go for the capital appreciation type funds instead.

The IRA and tax deferred accounts do have some draw backs such as losses are not allowed as tax deductible against gains or other income and all income other than Roth IRA’s are subject to ordinary income rates when withdrawn.

If you are also investing outside of your tax deferred accounts you may want to invest your money allocated to higher risk to that pool of funds where losses are deductible and capital gains rates apply to gains and therefore use the tax deferred accounts for any fixed income (bonds) and conservative equities (stocks).

Are mutual funds or individual stocks the best bet for a college student?

Q: I am a college student with a good part-time job at W.W. Grainger. I set up a ten year mutual fund back in 1996, and I invest $20 a week in Grainger, but I am looking to invest more. I was wondering if you think I should set up another mutual fund and play it safe or try to invest in the stock market?

What do you feel would be the best best for a college student. I still have about two years of college and I am looking to have a nice start on life afterwards.

A: (Richard) There are a number of questions you must first answer before making any decisions in regard to investing. Questions such as: How long will it be before you need to liquidate your investments for financial needs? What type of a risk tolerance do you have? What are your personal feelings in regard to economic performance over the next three to five years? I congratulate you for taking the initiative to set up an investment program at an early age but with any investment that is subject to market fluctuations, you must be willing to accept the risk that comes with the reward.

A mutual fund will give you the professional management and diversification that I would recommend for a new investor but also consider that each mutual fund has its own risk factor. Some are more aggressive than others. Also note that when you invest in a mutual fund you are indeed investing in the market whether it is in stocks or in bonds or a combination of both.

I recommend that you get the right start by seeking guidance from a professional investment advisor or reading books on investment basics and asset allocation. This will help you to determine what type of an asset allocation you should begin to formulate and what type of mutual funds or individual securities should be part of your asset allocation.

Formulating an effective asset allocation will take into consideration your risk tolerance, the amount of money you will be investing over time, how quickly it will be invested, when will you need to draw from your invested funds and the personal financial goals and objectives you hope to achieve.

If the money is for long term goals, you may want to consider using either a Roth IRA or tax efficient investments in order to maximize your after-tax return.

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